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Updated: Nov 19, 2019
You want to open a café or you’re considering offering food in your store for the first time. How do you decide what price to offer your first coffee or sandwich at?
Service and product business owners, managers expanding their business and entrepreneurs writing business plans all struggle with pricing. Thankfully, when it comes to selling food, a few simple calculations can clear much of the fog. The following steps are the foundation of the cost-based strategy most restaurants and food service businesses use to price their items and remain profitable.
It will be very hard to figure out how much profit you’re making from your food sales if you don’t know how much the food you’re selling first cost you. That’s where the Cost of Goods Sold (aka “cost of goods used” or “cost of usage”) comes in. The formula for COGS is very simple.
– Ending Inventory
$4,000 in your kitchen Monday morning
+ $3,000 in additions to inventory made on Wednesday
– $2,500 left in your kitchen on Sunday night
= $4,500 worth of inventory sold in the week
Knowing your COGS will keep you on top of financials and potential problems, and it wil keep your staff mindful of waste. The only way to ensure it happens regularly is to set up a system. Organize your stockroom, distribute inventory worksheets, and schedule a weekly inventory count and COGS analysis time.
Once you know your COGS, you can make sure your prices are higher than your costs. Use it to figure out your food cost percentage, markup, and profit margin—related ways to measure the success of your pricing strategy.
Your food cost percentage is the percentage of sales you spend on food. Setting a target food cost percentage is a very common way to make sure costs are controlled and profits are generated on both single-item and big-picture levels. Food cost, as the name suggests, does not take into account labor or other operational costs.
Most food service establishments aim for food cost percentages between 20 and 40 percent. Continuing the COGS example, imagine you sold $13,500 in food and beverages in the same week you sold $4,500 worth in inventory. Based on the following formula, your food cost percentage would be just right at 30%.
COGS / Food Sales = Food Cost
$4,500 / $13,500 = 0.3
Food Cost Percentage: 300%
While calculating food cost percentage can help you check how well your overall pricing strategy is performing, it can also help you price individual items. By remixing the formula a bit, you can determine the range of acceptable menu prices for, say, a sandwich that costs you $2 in ingredients.
COGS / Target Food Cost Percentage = Menu Price
$2.00 / 20% = $10.00
$2.00 / 30% = $6.67
$2.00 / 40% = $5.00
Barring any special considerations (like luxury pricing), you should probably sell your sandwich for a price between $5.00 and $10.00.
Markups and food cost percentages are two sides of the same coin. While target food cost percentages generally fall between 20-40%, markups are usually around 300%. While the percentages sound wildly different, they bring the same results. To mark up the same sandwich we used earlier by 300%, add 300% of the food cost ($2.00) to the original food cost to arrive at a final price.
COGS + 300% (COGS) = Menu Price
$2.00 + 3 ($2.00) = $8.00
Margin is another way of talking about profit and figuring out price. The formula is very simple:
Margin = Selling Price – Food Cost
$6.00 = $8.00 – $2.00
Margin Percentage = Margin / Selling Price
0.75 = $6.00 / $8.00
Margin Percentage = 75%
Calculating your food costs and target percentages gives you a foundation for your pricing strategy. As you’re getting a handle on your COGS and profit margins, don’t forget the following considerations.
Samantha Novick is a senior editor at Funding Circle, specializing in small business financing. She has a bachelor's degree from the Gallatin School of Individualized Study at New York University. Prior to Funding Circle, Samantha was a community manager at Marcus by Goldman Sachs. Her work has been featured in a number of top small business resource sites and publications.